form10q-a3q08.htm

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.  20549
 
FORM 10-Q/A
 
 
(AMENDMENT NO. 1)
 
[X]
Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the Quarterly Period Ended September 30, 2008.
or

[  ]           Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the Transition Periodfrom   to  .


001-14785
(Commission File Number)


 
GSE SYSTEMS, INC.
(Exact name of registrant as specified in its charter)

Delaware
52-1868008
(State of incorporation)
(I.R.S. Employer Identification No.)


1332 Londontown Blvd., Suite 200, Sykesville, MD 21784
(Address of principal executive office and zip code)

Registrant's telephone number, including area code:  (410) 970-7800



Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Sections 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes [ X ]   No [   ]

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definitions of “accelerated filer”, “large accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer  [  ]
Accelerated filer  [ X ]
Non-accelerated filer [ ]
Smaller reporting company [ ]
   
(Do not check if a smaller reporting company)
 

Indicate by check mark whether the registrant is a shell company (as defined in rule 12(b)-2 of the Exchange Act).    Yes  [  ]  No [X]

There were 15, 965,346 shares of common stock, with a par value of $.01 per share outstanding as of November 7, 2008.

GSE SYSTEMS, INC.
 
QUARTERLY REPORT ON FORM 10-Q/A
 

1

 
EXPLANATORY NOTE
 
This Amendment No. 1 to the Form 10-Q for the quarter ended September 30, 2008 is filed to amend and restate the Company’s previously issued financial statements for the three and nine months ended September 30, 2008 to correct its accounting for certain foreign currency derivative instruments.  The restatement was necessary because of an error in the reporting of the fair value of certain foreign exchange contracts during the quarter ended September 30, 2008.

 
2

 


 
GSE SYSTEMS, INC.
 
QUARTERLY REPORT ON FORM 10-Q/A
 
INDEX
 

 
   
PAGE
PART I.
 
FINANCIAL INFORMATION
4
Item 1.
Financial Statements:
 
 
Consolidated Balance Sheets as of September 30, 2008 and December 31, 2007
4
 
Consolidated Statements of Operations for the Three and Nine Months Ended September 30, 2008 and September 30, 2007
5
 
Consolidated Statements of Comprehensive Income (Loss) for the Three and Nine Months Ended September 30, 2008 and September 30, 2007
6
 
Consolidated Statement of Changes in Stockholders’ Equity for the Nine Months Ended September 30, 2008
7
 
Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2008 and September 30, 2007
8
 
Notes to Consolidated Financial Statements
9
Item 2.
Management's Discussion and Analysis of Financial Condition and Results of Operations
18
Item 3.
Quantitative and Qualitative Disclosures About Market Risk
28
Item 4.
Controls and Procedures
28
 
PART II.
 
 
OTHER INFORMATION
 
30
Item 1.
Legal Proceedings
30
Item 1A.
Risk Factors
30
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds
30
Item 3.
Defaults Upon Senior Securities
30
Item 4.
Submission of Matters to a Vote of Security Holders
30
Item 5.
Other Information
30
Item 6.
Exhibits
30
 
 
SIGNATURES
31



 
3

 

PART I - FINANCIAL INFORMATION
           
Item 1.  Financial Statements
           
GSE SYSTEMS, INC. AND SUBSIDIARIES
 
CONSOLIDATED BALANCE SHEETS
 
(in thousands, except share data)
 
             
   
(Unaudited)
       
   
September 30, 2008
   
December 31, 2007
 
   
(Restated)
       
ASSETS
 
Current assets:
           
Cash and cash equivalents
  $ 7,513     $ 8,172  
Restricted cash
    2,521       2,228  
Contract receivables
    11,935       10,721  
Prepaid expenses and other current assets
    999       894  
Total current assets
    22,968       22,015  
                 
Equipment and leasehold improvements, net
    1,162       880  
Software development costs, net
    1,505       1,170  
Goodwill
    1,739       1,739  
Long-term restricted cash
    1,990       1,925  
Other assets
    908       635  
Total assets
  $ 30,272     $ 28,364  
                 
LIABILITIES AND STOCKHOLDERS' EQUITY
 
Current liabilities:
               
Accounts payable
  $ 1,723     $ 1,533  
Accrued expenses
    733       1,061  
Accrued compensation and payroll taxes
    1,284       1,613  
Billings in excess of revenue earned
    3,704       2,270  
Accrued warranty
    961       724  
Other current liabilities
    476       103  
Total current liabilities
    8,881       7,304  
                 
Other liabilities
    786       695  
Total liabilities
    9,667       7,999  
Commitments and contingencies
               
                 
Stockholders' equity:
               
Preferred stock $.01 par value, 2,000,000 shares authorized,
               
shares issued and outstanding none in 2008 and 2007
    -       -  
Common stock $.01 par value, 30,000,000 shares authorized,
               
shares issued and outstanding 15,963,958 in 2008 and
               
15,508,014 in 2007
    160       155  
Additional paid-in capital
    50,217       49,225  
Accumulated deficit
    (28,749 )     (28,128 )
Accumulated other comprehensive loss
    (1,023 )     (887 )
Total stockholders' equity
    20,605       20,365  
Total liabilities and stockholders' equity
  $ 30,272     $ 28,364  
                 
The accompanying notes are an integral part of these consolidated financial statements.
         




 

 
4

 

GSE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)
(Unaudited)
                         
                         
   
Three months ended
   
Nine months ended
 
   
September 30,
   
September 30,
 
   
2008
   
2007
   
2008
   
2007
 
   
(Restated)
         
(Restated)
       
                         
Contract revenue
  $ 7,001     $ 7,526     $ 20,639     $ 23,769  
                                 
Cost of revenue
    5,023       5,150       14,889       16,345  
Gross profit
    1,978       2,376       5,750       7,424  
                                 
Operating expenses:
                               
Selling, general and administrative
    1,694       1,813       5,585       5,567  
Depreciation
    114       59       317       168  
Total operating expenses
    1,808       1,872       5,902       5,735  
                                 
Operating income (loss)
    170       504       (152 )     1,689  
                                 
Interest income (expense), net
    42       (62 )     76       (425 )
Loss on derivative instruments
    (170 )     (6 )     (165 )     (8 )
Other expense, net
    (43 )     (82 )     (172 )     (345 )
Income (loss) before income taxes
    (1 )     354       (413 )     911  
                                 
Provision for income taxes
    57       51       208       229  
Net income (loss)
    (58 )     303       (621 )     682  
                                 
Preferred stock dividends
    -       -       -       (49 )
                                 
Net income (loss) attributed to common shareholders
  $ (58 )   $ 303     $ (621 )   $ 633  
                                 
Basic income (loss) per common share
  $ (0.00 )   $ 0.02     $ (0.04 )   $ 0.05  
                                 
Diluted income (loss) per common share
  $ (0.00 )   $ 0.02     $ (0.04 )   $ 0.04  
                                 
The accompanying notes are an integral part of these consolidated financial statements.
         


5

 


GSE SYSTEMS, INC. AND SUBSIDIARIES
 
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
 
(in thousands)
 
(Unaudited)
 
                         
                         
   
Three months ended
   
Nine months ended
 
   
September 30,
   
September 30,
 
   
2008
   
2007
   
2008
   
2007
 
   
(Restated)
         
(Restated)
       
                         
Net income (loss)
  $ (58 )   $ 303     $ (621 )   $ 682  
                                 
Foreign currency translation adjustment
    (224 )     119       (136 )     88  
                                 
Comprehensive income (loss)
  $ (282 )   $ 422     $ (757 )   $ 770  
                                 
The accompanying notes are an integral part of these consolidated financial statements.
         


6




GSE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
(in thousands)
(Unaudited)
                                                                 
                                                       
Accumulated
       
                   
Preferred
   
Common
   
Additional
         
Other
       
                   
Stock
   
Stock
   
Paid-in
   
Accumulated
   
Comprehensive
 
                   
Shares
   
Amount
   
Shares
   
Amount
   
Capital
   
Deficit
   
Loss
   
Total
 
Balance, January 1, 2008
      -     $ -       15,508     $ 155     $ 49,225     $ (28,128 )   $ (887 )   $ 20,365  
                                                                                 
Stock-based compensation
                                                                 
 
expense
            -       -       -       -       319       -       -       319  
Common stock issued for
                                                                 
 
options exercised, net of
                                                                 
 
30,645 shares returned to
                                                                 
 
GSE to pay for employee's
                                                                 
 
income tax liabilities of
                                                                 
   $251                   194              29                    31   
Common stock issued for
                                                                 
 
services provided
      -       -       13       -       107       -       -       107  
Common stock issued for
                                                                 
 
warrants exercised
      -       -       249       3       537       -       -       540  
Foreign currency translation
                                                                 
 
adjustment
      -       -       -       -       -       -       (136 )     (136 )
Net loss
                      -       -       -       -       -       (621 )     -       (621 )
Balance, September 30, 2008 (Restated)
      -     $ -       15,964     $ 160     $ 50,217     $ (28,749 )   $ (1,023 )   $ 20,605  
                                                                                       
The accompanying notes are an integral part of these consolidated financial statements.
                         


 

 
7

 

GSE SYSTEMS, INC. AND SUBSIDIARIES
 
CONSOLIDATED STATEMENTS OF CASH FLOWS
 
(in thousands)
 
(Unaudited)
 
   
Nine months ended
 
   
September 30,
 
   
2008
   
2007
 
   
(Restated)
       
Cash flows from operating activities:
           
Net income (loss)
   $ (621 )   $ 682  
Adjustments to reconcile net income (loss) to net cash
               
provided by (used in) operating activities:
               
Depreciation
    317       168  
Capitalized software amortization
    195       252  
Amortization of deferred financing costs
    124       399  
Stock-based compensation expense
    426       430  
Loss on derivative instruments
    165       8  
Elimination of profit on Emirates Simulation Academy, LLC contract
    38       371  
Equity loss on investment in Emirates Simulation Academy, LLC
    138       -  
Changes in assets and liabilities:
               
Contract receivables
    (1,162 )     (2,877 )
Prepaid expenses and other assets
    (37 )     (531 )
Accounts payable, accrued compensation and accrued expenses
    (620 )     (263 )
Billings in excess of revenues earned
    1,402       1,062  
Accrued warranty reserves
    237       (98 )
Other liabilities
    171       155  
Net cash provided by (used in) operating activities
    773       (242 )
                 
Cash flows from investing activities:
               
Investment in Emirates Simulation Academy, LLC
    (422 )     (128 )
Capital expenditures
    (600 )     (258 )
Capitalized software development costs
    (530 )     (513 )
Restriction of cash as collateral under letters of credit or guarantees
    (548 )     (1,275 )
Release of cash as collateral under letters of credit
    190       63  
Net cash used in investing activities
    (1,910 )     (2,111 )
                 
Cash flows from financing activities:
               
Proceeds from issuance of common stock due to the  exercise
               
of options and warrants
    571       1,260  
Deferred financing costs
    (88 )     -  
Decrease in borrowings under lines of credit
    -       (2,155 )
Net proceeds from issuance of common stock and warrants
    -       9,235  
Tax benefit from option exercises
    -       41  
Payment of preferred stock dividends
    -       (49 )
Payment of ManTech preferred stock dividends
    -       (316 )
Net cash provided by financing activities
    483       8,016  
                 
Effect of exchange rate changes on cash
    (5 )     15  
Net increase (decrease) in cash and cash equivalents
    (659 )     5,678  
Cash and cash equivalents at beginning of year
    8,172       1,073  
Cash and cash equivalents at end of period
  $ 7,513     $ 6,751  
                 
The accompanying notes are an integral part of these consolidated financial statements.
         


 
 
8

 
GSE SYSTEMS, INC. AND SUBSIDIARIES
FORM 10-Q/A
For the Three and Nine Months ended September 30, 2008 and 2007


1.  
Basis of Presentation and Revenue Recognition

Basis of Presentation

The consolidated financial statements included herein have been prepared by GSE Systems, Inc. (the “Company” or “GSE”) without independent audit.  In the opinion of the Company's management, all adjustments and reclassifications of a normal and recurring nature necessary to present fairly the financial position, results of operations and cash flows for the periods presented have been made.  Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) have been condensed or omitted.  The results of operations for interim periods are not necessarily an indication of the results for the full year.  These consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the period ended December 31, 2007 filed with the Securities and Exchange Commission on March 17, 2008.

The Company has only one reportable segment.  The Company has a wide range of knowledge of simulation systems and the processes those systems are intended to control and model.  The Company’s knowledge is concentrated heavily in simulation technology and model development.  The Company is primarily engaged in simulation for the power generation industry and the process industries.  Contracts typically range from 12 months to three years.

 
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements as well as reported amounts of revenues and expenses during the reporting period. The Company’s most significant estimates relate to revenue recognition, capitalization of software development costs, and the recoverability of deferred tax assets.   Actual results could differ from these estimates and those differences could be material.
 
Revenue Recognition
 
The majority of the Company’s revenue is derived through the sale of uniquely designed systems containing hardware, software and other materials under fixed-price contracts.  In accordance with Statement of Position 81-1, Accounting for Performance of Construction-Type and Certain Production-Type Contracts, the revenue under these fixed-price contracts is accounted for on the percentage-of-completion method. This methodology recognizes revenue and earnings as work progresses on the contract and is based on an estimate of the revenue and earnings earned to date, less amounts recognized in prior periods.  The Company bases its estimate of the degree of completion of the contract by reviewing the relationship of costs incurred to date to the expected total costs that will be incurred on the project. Estimated contract earnings are reviewed and revised periodically as the work progresses, and the cumulative effect of any change in estimate is recognized in the period in which the change is identified. Estimated losses are charged against earnings in the period such losses are identified.  The Company recognizes revenue arising from contract claims either as income or as an offset against a potential loss only when the amount of the claim can be estimated reliably and realization is probable and there is a legal basis of the claim.  There were no claims outstanding as of September 30, 2008.
 
Uncertainties inherent in the performance of contracts include labor availability and productivity, material costs, change order scope and pricing, software modification and customer acceptance issues.  The reliability of these cost estimates is critical to the Company’s revenue recognition as a significant change in the estimates can cause the Company’s revenue and related margins to change significantly from the amounts estimated in the early stages of the project.
 

 
9

As the Company recognizes revenue under the percentage-of-completion method, it provides an accrual for estimated future warranty costs based on historical and projected claims experience.  The Company’s long-term contracts generally provide for a one-year warranty on parts, labor and any bug fixes as it relates to software embedded in the systems.
 
The Company’s system design contracts do not normally provide for “post customer support service” (PCS) in terms of software upgrades, software enhancements or telephone support.  In order to obtain PCS, the customers must normally purchase a separate contract.  Such PCS arrangements are generally for a one-year period renewable annually and include customer support, unspecified software upgrades, and maintenance releases.  The Company recognizes revenue from these contracts ratably over the life of the agreements in accordance with Statement of Position 97-2, Software Revenue Recognition.
 
Revenue from the sale of software licenses which do not require significant modifications or customization for the Company’s modeling tools is recognized when the license agreement is signed, the license fee is fixed and determinable, delivery has occurred, and collection is considered probable.
 
Revenue for contracts with multiple elements is recognized in accordance with Emerging Issues Task Force Issue 00-21, Accounting for Revenue Arrangements with Multiple Deliverables.
 
Revenue from certain consulting or training contracts is recognized on a time-and-material basis.  For time-and-material type contracts, revenue is recognized based on hours incurred at a contracted labor rate plus expenses.
 
The following customers have provided more than 10% of the Company’s revenue for the indicated period:


 
Three months ended
 
Nine months ended
 
September 30,
 
September 30,
 
2008
 
2007
 
2008
 
2007
               
American Electric Power
13.1%
 
0.3%
 
4.8%
 
0.2%
Emerson Process Management
12.8%
 
9.5%
 
16.8%
 
7.3%
Emirates Simulation Academy, LLC
0.6%
 
27.4%
 
6.0%
 
34.2%
Westinghouse Electric Company LLC
10.6%
 
0.7%
 
7.7%
 
0.5%
               



Contract receivables unbilled totaled $3.2 million and $6.6 million as of September 30, 2008 and December 31, 2007, respectively.  In October 2008, the Company invoiced $993,000 of the unbilled amounts.

2.  
Restatement

On  February 13,  2009,  management and the Audit Committee of the Board of Directors concluded that the Company would amend and restate its previously issued financial statements for the three and nine months  ended September 30, 2008 to correct its accounting for certain foreign currency exchange contracts.  The restatement reduced net income for both the three and nine months ended September 30, 2008 by approximately $488,000 and resulted in a net loss of approximately $58,000 or $0.00 per share on both a basic and diluted basis for the three months ended September 30, 2008 and a net loss of approximately $621,000 or ($0.04) per share on both a basic and diluted basis for the nine months ended September 30, 2008. The restatement did not affect the Company’s liquidity, reported revenue, operating income or cash from operations.
 
The impact of the restatement on the Company’s Consolidated Statement of Operations for the three months ended September 30, 2008 is outlined below.
 

 
10

 

   
Three months ended
       
   
September 30, 2008
       
(in thousands, except for  share amounts)
       
AS
       
   
RESTATED
   
REPORTED
   
Variance
 
                   
Contract revenue
  $ 7,001     $ 7,001     $ -  
                         
Operating income
  $ 170     $ 170     $ -  
                         
Interest income, net
    42       42       -  
Gain (Loss) on 
                       
      derivative instruments
    (170 )     360       (530 )
Other expense, net
    (43 )     (43 )     -  
Income (loss) before income taxes
    (1 )     529       (530 )
                         
Provision for income taxes
    57       99       (42 )
                         
Net income (loss)
  $ (58 )   $ 430     $ (488 )
                         
                         
                         
Basic income per common share
  $ 0.00     $ 0.03     $ (0.03 )
Diluted income per common share
  $ 0.00     $ 0.03     $ (0.03 )
                         


11

 
The impact of the restatement on the Company’s Consolidated Statement of Operations for the nine months ended September 30, 2008 is outlined below.
 
           
 
Nine months ended
   
 
September 30, 2008
   
(in thousands, except for  share amounts)    
AS 
   
 
RESTATED
 
REPORTED
 
Variance
           
Contract revenue  $      20,639    $      20,639    $               -
           
Operating loss  $        (152)    $        (152)    $             -  
           
Interest income, net               76                 76                   -  
Gain (Loss) on          
      derivative instruments            (165)                365              (530)
Other expense, net            (172)              (172)                     -
Income (loss) before income taxes            (413)                117          (530)
           
Provision for income taxes              208                250                (42)
           
Net loss  $        (621)    $        (133)    $        (488)
           
           
           
Basic loss per common share  $       (0.04)    $       (0.01)    $       (0.03)
Diluted loss per common share  $       (0.04)    $       (0.01)    $       (0.03)
           
 
         The impact of the restatement on the Company's September 30, 2008 Consolidated Balance Sheet is outlined below.
 
 
 
September 30, 2008
   
(in thousands)    
AS   
   
 
RESTATED
 
REPORTED
 
Variance
           
Cash and cash equivalents  $       7,513    $       7,513    $        -  
Other current assets         15,455           15,423             32
Long-term assets           7,304             7,494          (190)
Total assets  $      30,272    $      30,430    $    (158)
           
Current liabilities  $       8,881    $       8,645    $      236
Long-term liabilities              786                733             53
Stockholders' equity         20,605           21,052          (447)
Total liabilities and stockholders' equity  $      30,272    $      30,430    $    (158)
           

 

 
12

 
GSE SYSTEMS, INC. AND SUBSIDIARIES
FORM 10-Q/A
For the Three and Nine Months ended September 30, 2008 and 2007


3.   
Basic and Diluted Income (Loss) Per Common Share

Basic income (loss) per share is based on the weighted average number of outstanding common shares for the period.  Diluted income (loss) per share adjusts the weighted average shares outstanding for the potential dilution that could occur if stock options, warrants or convertible preferred stock were exercised or converted into common stock.  The number of common shares and common share equivalents used in the determination of basic and diluted income (loss) per share were as follows:

(in thousands, except for  share amounts)
Three months ended
 
Nine months ended
       
September 30,
 
September 30,
       
2008
 
2007
  2008   2007
        (Restated)       (Restated)    
Numerator:                
  Net income (loss)    $               (58)    $              303    $            (621)    $              682
  Preferred stock dividends                     -                         -                         -                      (49)
  Net income (loss) attributed to common stockholders  $               (58)    $              303    $            (621)    $              633